Question

The study of Microeconomics involves the study of how markets work to allocate resources. What specific theory (model) do economists use to determine how much of a good or service is provided and at what price? Applying this model, show the effects of government interventions in a market to raise prices (set a price floor) and lower prices (set a price ceiling). Provide specific examples and illustrate your points.

Answer 1

Answer - INTRODUCTION :

The theory of value or price tend to explain the exchange value or prices of goods and services i.e. why the goods and services are priced as the way they are ,how would be the value of these goods and services will be determined,further for normative theories - to calculate the correct prices and quantities of goods and services in the market

PRICE AND QUANTITY DETERMINATION UNDER MICROECONOMICS :

The price and quantity is set by the law of supply and demand. Consumers have a want to get good and producers tend to fulfill it by supplying it where both meet there only the price and quantity is determined i.e. equilibrium price and quantity which is actually known as THEORY OF PRICE.

RELATION OF DEMAND AND SUPPLY:

SUPPLY - is the amount of products and services available in the market which will be finite. It can be tangible or intangible like automobiles and service of teacher respectively

1. Input prices- the cost of inputs or raw material also tend to determine the price at which seller will give quote it in market and and at what quantity
2. Number of sellers- when new sellers come in market it will shift the curve to right further also reducing the price in market for that good
3. Technology - advancement in technology tend to improve the productivity making market more profitable

DEMAND -it tells about the desire of the market to get the goods and services which is availed to the potential consumers where it may fluctuate depending on new improved availability of products or service which are more or no more in demand. It is affected by alot of other factors like

1. Consumer preferences - as the consumer tastes and preferences tend to change constantly with changes in the technology so that will also effect the demand curve
2. Income of consumer - the purchasing power of customer also tend to determine what price range and quantity a person would demand
3. Price of substitutes or complimentary- as if substitute are cheap the demand will fall and if complimentary are cheap the demand curve will be favoured
4. Expectation about future- many times people expect that the future price might increase or decrease that will also effect their buying decision in present.

EFFECT OF ELASTICITY OF PRICES: It is another theory of price determination i.e. how much demand will change with increase or decrease in price

Formula - % change in quantity demanded ÷ % change in price

When one percent alteration in price result in greater than one percent change in quantity it is elastic however when one percent change leads to less than one percent change in quantity then it is inelastic example let price of chocolate rose by 10% and it's demand dropped by 20% i.e. -20%÷ 10% = -2 which means the price elasticity of chocolate is high ,putting in other words demand for chocolate is highly sensitive to change in price of chocolate (higher the absolute numbers indicate more price elasticity)

Where they both meet there will be equilibrium price and quantity ; if PRICE IS TOO HIGH than consumer will avoid the goods and services resulting in lower quantity demanded and when PRICE IS TOO LOW ,the demand will be too much and will overweigh the supply

Price floor - it is when the government raises the price ,it will normally be above the equilibrium price of the market. Here quantity demanded will be lesser than supplied resulting in surplus ,it's goverment price control ( done to protect producers as they will be better off at higher price lower quantity will be sold)

Price ceiling - it is set below the equilibrium price .here the quantity demanded will be more than the quantity supplied resulting in shortages further its also government price control ( basically done to protect consumers as noone could charge exorbidant price)

EXAMPLE :

Back when Apple,Inc. offered different MacBook Pro models with varying prices and capabilities ,all also came with different colors and at same price .It's study found that keeping uniform prices for the whole product line is best pricing policy ,as making one cheaper to other would have increased the sale for cheap one and the other would had been a flop

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